Analysis and criticism of America's most prominent public intellectual and champion of Keynesian economics. I am part of the Austrian School of Economics, and I critique Krugman's writings from that perspective.

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Monday, April 22, 2013

All Hail the Debt Fairy! All Hail the Inflation Fairy!

In September 2008, if it had not been obvious before, it had become abundantly clear since that the borrow-and-spend party has been over for nearly five years, yet Paul Krugman is becoming even more shrill about the need to a large dose of the fiscal equivalent of "hair of the dog." Yet, governments, including that of the USA, have been attempting to appeal to the Debt Fairy and the Inflation Fairy to wave their magic wands and heal the economies with more of the same.

In his latest column, Paul Krugman combines a relatively true statement about the current state of economic affairs -- long-term joblessness is becoming chronic -- with a non-sequitur. First, he comments upon the desperate situation that has become normal for many people, and second, he then blames it on a paper published a few years ago by a couple of economists:

Well, the famous red line on debt, it turns out, was an artifact of dubious statistics, reinforced by bad arithmetic. And America isn’t and can’t be Greece, because countries that borrow in their own currencies operate under very different rules from those that rely on someone else’s money. After years of repeated warnings that fiscal crisis is just around the corner, the U.S. government can still borrow at incredibly low interest rates.

But while debt fears were and are misguided, there’s a real danger we’ve ignored: the corrosive effect, social and economic, of persistent high unemployment. And even as the case for debt hysteria is collapsing, our worst fears about the damage from long-term unemployment are being confirmed.

Understand what Krugman is saying. As long as the USA can print money and borrow from the Federal Reserve, then Americans don't have to worry about how much debt the government piles up and how much money the Fed prints. The Debt Fairy and the Inflation Fairy will sprinkle magic dust and do what no fairy before has been able to do: conjure up a real economic recovery by encouraging the very kind of economic behavior that put this country into the mess in the first place.

Lest anyone think I exaggerate, Krugman himself qualifies the points I have made:

And let’s be clear: this is a policy decision. The main reason our economic recovery has been so weak is that, spooked by fear-mongering over debt, we’ve been doing exactly what basic macroeconomics says you shouldn’t do — cutting government spending in the face of a depressed economy.

It’s hard to overstate how self-destructive this policy is. Indeed, the shadow of long-term unemployment means that austerity policies are counterproductive even in purely fiscal terms. Workers, after all, are taxpayers too; if our debt obsession exiles millions of Americans from productive employment, it will cut into future revenues and raise future deficits.

Our exaggerated fear of debt is, in short, creating a slow-motion catastrophe. It’s ruining many lives, and at the same time making us poorer and weaker in every way. And the longer we persist in this folly, the greater the damage will be.

First things first. U.S. debt today stands at roughly 105 percent of current GDP, and only about 40 percent of current spending is financed via taxation. This is not "austerity" by any definition of the word, and one can bet that the next time the debt ceiling issue comes to the fore, Congress and the president -- after yet another dog-and-pony show complete with the Usual Suspects giving their usual talking points -- will come to an agreement. This number will grow, although it won't grow fast enough for Krugman.

Furthermore, Krugman fails to point out that the Obama administration has been relentless in trying to drive the U.S. economy in a direction in which vast amounts of resources are being used to push economic frauds like "green energy" and even another housing boom. In other words, it is more of the same. The government places huge burdens upon entrepreneurs who wish to operate in a relatively free market and drives resources into destructive "Crony Capitalism," as though policies that enrich contributors to Obama and the Political Classes will translate into general prosperity.

Keynesians are fond of claiming that as long as we have "idle resources," this is a wise policy, as at some point, if the Debt Fairy and Inflation Fairy sprinkle enough magic dust, all of these "idle resources" will awaken like Snow White after the kiss from the prince and come to life again. This is an amazing claim, for it is saying that when the economy is depressed, the Law of Scarcity can be ignored.

Yes, Keynesians believe that if only government spends enough and borrows enough, that we can emerge from this morass, and that the only thing standing in the way of progress is the presence of Goldstein -- I now dub him "Scoldstein" -- telling us we need to put something in our piggy banks. We can spend our way into another boom, and when that boom collapses -- as it surely will -- we just invoke the incantations of the Twin Fairies and begin another ride into the sunrise.

I've been a bit amused by Krugman's newfound obsession with the Reinhart-Rogoff paper in the aftermath of the Herndon critique. The false claims and embellishments (like trying to insinuate that economic policy in Western economies has hinged almost solely on that paper) are clear signs of a desperate man willing to use any available dishonest trick to try and castigate and repudiate his ideological opponents.

I don't know the whole story there, but Reinhart-Rogoff appear to have made some critical errors in the assimilation of their data. That's really unfortunate with the likes of Krugman and his fire-breathing leftist allies out there who will seize on any mistake, no matter how small, made by Austrians or other classical free market economists who warn about the perils of easy/loose money policies and try and discredit the entirety of their concerns.

The mistake by Reinhart-Rogoff was hardly small. The big issue was that their claims of some red line at 90% debt slowed economic growth was completely mistaken. Austerity in Europe has been a dismal failure. There are not increasing returns but there is definetly no glaring decline at 90%. Furthmore the causation seems to be reversed and that is that sluggish economy leads to increase debt.

The problem with European austerity is that it is basically a major tax increase in order to bail out the banks. No one in the Austrian camp supports people being taxed out the wazoo to protect the salaries of bank executives.

The real focus of this Krugman column is the problem of long-term unemployment for the long-term unemployed. It's something of a tautology, those that have been unemployed for a long time are having a difficult time getting a job.

This is typical statist crap, looking at individuals in the aggregate. When it came time for a reduction in force companies took the opportunity to get rid of their least productive employees. Why would they lay off their best workers? Companies kept the folks with whom they were the most comfortable. Sure, they may have let some good workers go but in general they wanted to add to their work force by subtraction, after all, in the late 90s they were dragging people off the street to fill positions.

In fact, since the unemployment rate is probably less than double its "normal" amount, you might be able to say that unemployment in the country really isn't all that significant anyway, unless you're the one that doesn't have a paycheck to cash.

If the feds really wanted to boost employment they'd get out of the way of business and cancel the myriad of regulations that get in the way hiring.

And more. Maybe, by official statistics, the unemployment rate in Spain is more than 25%. But plenty of Spaniards (and Portugese and Greeks and Italians and Americans) are either working for cash or running their own all cash businesses, cutting hair, doing bookkeeping, gardening, plumbing and drain cleaning, car repair and all manner of services, dodging the government requirements, not paying for insurance and forgetting about taxes. The more onerous the government gets, the bigger this problem for them becomes.

Why is it that in the unemployment conversation we never hear anything about retirees that remain in the work force? If you're going to tell me that a 55 year old retired L.A. cop is going to sit home and watch Seinfeld re-runs all day, I'm going to scoff. In fact, he might have two jobs. Most school teachers work summer jobs and many public employees have businesses of their own. While that may not be illegal, it still has an effect on the employment market. Taxpayers are subsidizing nascent businesses that are in direct competition with them.

The thing that always gets me laughing is this. If in fact we can 'spend' our way to growth than why not do so? Why tax anyone at all? I mean if there is 'no end' to what the Federal Reserve and the Government can hold then there is no need for the Federal Government to collect taxes right?

I once heard someone suggest that the way you find out if something is moral or not is imagine everyone doing it. If it results in a 'bad' result, then it is of necessity not moral, whereas if it results in a 'good' result it is moral.

Most of the Keynesian principles that have been developed fall into the immoral category.

Still another issue. Unemployment hasn't been at the same level across the occupational spectrum. Since 2007 the construction trades workers, for instance, have had a high unemployment rate while the demand for truck drivers has stayed pretty constant. Doesn't a person who wants a job need to have the skill sets that are currently in demand? Is it wise for one to spend five or six years studying to be a ballerina, a concert oboist or a potter in the expectation that a job in one of those fields awaits? Does society or the government have an obligation to provide employment to individuals that have skills that no part of the private sector wants or needs?

Sorry for staying off-topic and sticking mainly to Krugman-bashing, but...

I also find it quite amusing how Krugman likes to toss around this gem when making a personal attack, that somebody has gotten "everything wrong" (in their analysis) but he rarely, if ever, goes into any specifics refuting them on even one thing they've been wrong about. It makes me want to respond, "Really, Paul, EVERYTHING? Citations, please!"

He's like the adolescent or small child throwing a hissy fit and making some kind of outlandish claim like, "They're all being mean to me!!! Waaaaaaaahhhh!!" or "Everything sucks!! Nothing is going MY WAY!! Waaaaaaaahhhh!!" The adults in the room then ask, "Who is being mean to you and what specifically are they doing that you consider 'mean'?" or "What specifically isn't going your way?" To which the child usually just sits there sobbing and utters nothing but gibberish as a response.

That's what Krugman sounds like with these absolutist declarations. An adolescent spewing incoherent gibberish.

"Austerity" in Europe falls under two different types: that which is self imposed, and that which is imposed by the markets (or foreign governments). The austerity in places like Greece and Cypress is not by choice, they have run out of credit lines, and rightly so. Borrowing at artificially low rates (thanks to Germany's co-signing) has allowed the nonproductive public sector of these countries to prosper. When the funding dries up, OF COURSE the economy will suffer. There is very little private infrastructure or capital. There is going to be a very long and painful restructuring of these economies before they can prosper again. The other side of the coin are countries like the Baltics, which due to their recent economic history, were able to impose REAL without large scale riots, cutting public spending by as much as 30% and balancing their budgets. That is real austerity. Third, there are countries like Britain that Krugman holds up as examples of the failure of austerity. But Britain has not cut public spending at all, spending has increased every year. This is NOT austerity.

From what I understand, the Baltic countries have been doing better. We were in Latvia for nearly a month in 2011 and they were still recovering from a big hit in 2008-09.

Estonia's president has had some public sparring with Krugman, but Estonia's economy has been doing better. However, according to Krugman, an economy (except for ours when a Democrat is president) is not recovering unless it is in a major boom. Nothing else will suffice.

How date you suggest that not cutting is Austerity!!! The very concept of not simply increasing the amount of money in a country by 10% per year until it is back on its feet is preposterous. Seriously I mean in 2009 the deficit in the USA was what percentage of the economy? 10% and now it is down to what 6%? I mean think about it that means we are going in debt 6% to get a return of 4% Nominal growth in GDP? And this is a 'recovering economy'?

by the same token I do not like comparing little countries like the Baltics ( or Sweden etc ) to the USA, the size difference is just too large. I do not know that there can be fair comparisons when you are the third largest most populous country in the world...

But fear not, in 2018 the Deficit will only be 2.26% of GDP and we will have 5.2% Nominal Growth of GDP and THAT will fix everything. Just in time for the next bubble to burst!

Professor Anderson, you are correct about the Baltics. In one of Krugman's editorials he compares growth in Estonia since the crisis with the U.S., but instead of choosing GDP growth he uses as a benchmark the percentage of the GDP "hole" each country has filled since the recession. Naturally, having suffered deeper recessions, the Baltics (and especially Estonia) had not come as close as the U.S. to filling that hole (this may be different today, this was a couple years ago). Krugman ignored the more important point though: That Estonia has DEALT with their debt problem. It is in the rear view mirror. Our most difficult days are ahead of us.

Even if there were no inverse correlation between debt and GDP growth, the Krugmanites are still a long way on selling the value of public debt. For example, what is Krugman's explanation for the following chart:

Reinhart-Rogoff claims that the key metric is public debt to GDP ratio, and that higher values are making things worse.

Krugman claims the opposite, so let's look at the trend in USA's debt to GDP ratio:

http://www.tradingeconomics.com/united-states/government-debt-to-gdp

There we go, it has gone up every single year and is will past the threshold that Reinhart-Rogoff claimed would be a problem. So thus Krugman should be happy because it is plainly obvious that the USA has made no attempt to follow the suggestions of Reinhart-Rogoff at any time in the past decade.

Mule Rider:The false claims and embellishments (like trying to insinuate that economic policy in Western economies has hinged almost solely on that paper) are clear signs of a desperate man willing to use any available dishonest trick to try and castigate and repudiate his ideological opponents.

Policy has gone in exactly the opposite direction to the Reinhart-Rogoff recommendation. If Krugman's followers are too stupid to read a simple chart then what hope is there? Why even continue the discussion?

"William L. Anderson said... From what I understand, the Baltic countries have been doing better."

And does this have something to do with Estonia's recovery?:

“Since Q2 2011 the [sc. Estonian] government has reversed its stance and embarked on massive spending. The average of the yearly rate of growth between Q2 2011 and Q2 2012 stood at a positive figure of 11 percent. (Contrast this with the -7.4 percent during Q3 2009 to Q1 2011.) Furthermore, the yearly rate of growth of money supply has been displaying strong growth. The average of the yearly rate of growth between December 2009 and August 2012 stood at 8 percent. ... Rather than persisting with the cleansing process, the government and the central bank have chosen to reverse the stance, thereby arresting the process of healing the economy.”Frank Shostak, “Why Estonia Is Beating the Eurozone,” Mises Daily, October 18, 2012.http://mises.org/daily/6232/Why-Estonia-Is-Beating-the-Eurozone

The unemployment situation in Spain raises an interesting question. Labor force participation is plummeting. Part of this can be attributed to the aging population, part to the baby boomlet, part to more people going to college, and about 100 basis points of the change to people going on the permanent dole (disability).

But a big proportion of the change is unaccounted for. And since we do not see tens of thousands of zombies walking the streets, we believe that it is due to the fact that we have reached some sort of tipping point in the regulatory environment. Since it is so difficult to run a legitimate business anymore, a good part of this decline in the labor force is likely to people moving to the underground economy - much like in Mexico, Greece, France......

The unfriendly regulatory policy (mostly at the state and local levels) is - I believe - much more of a drag on the economy than the poor macroeconomic policies of borrow and spend.

I know comments like this have been covered numerous times on this blog already, but I still can't fathom how Krugman keeps getting away with using a phrase like "sharp austerity" to describe the current fiscal/monetary environment in the US. There's propaganda and then there's this, a bald-faced lie.

it'd be on par with me suggesting this was still primarily a horse-and-carriage society...such claims simply defy logic and reason.

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About Me

I teach economics at Frostburg State University in Frostburg, Maryland. We are located on the Allegheny Plateau, and we have cool summers and tough winters.
I am the single father of five children, four of them adopted from overseas and I have two grandchildren. My family and I are members of Faith Presbyterian Church (PCA).